Corporates and financial institutions face huge challenges in the environment of persistently low economic growth that has become the global norm since 2008. They can’t grow organically so they have to grow by acquisition.
Cash piles at many large multinational firms ballooned to record highs over the years since Lehman Brothers collapsed and investment banks optimistically predicted a surge in M&A activity as shareholders demanded that their money be put to work.
Last year that prediction seemed at last to bear fruit. $3.8 trillion was spent on mergers and acquisitions in 2015, according to Bloomberg, the highest amount on record. This led to a $21 billion payday for the banks advising those deals, led by Goldman Sachs, JPMorgan and Morgan Stanley.
In Euromoney’s meetings with many financiers in London and New York as part of the awards research process this was a constant theme. “The story of the last 12 months has been large cap M&A. It is M&A that has driven issuance: the deals are huge,” enthused one banker. Many firms have been rubbing their hands in the expectation of further riches to come.
However, the recently-published first half figures for 2016 tell a different story. According to Dealogic, global M&A revenue experienced its second largest first half drop in 13 years this year, falling 14% to $10.2 billion. This is admittedly a long way from the 46% it fell in that period between 2008 and 2009 and is still the third highest first half figure on record but it means that the second half of the year is going to have to be spectacular to keep the momentum going.
The US dominates M&A volumes and the impact of tougher rules on tax inversions in that market should not be underestimated. Withdrawn M&A volume doubled in the first half of this year, led by the scrapping of the $160 billion Allergan Pfizer deal.
The big story in M&A has therefore moved away from the US to Chinese outbound activity as that country’s firms look to diversify away from their home market – exemplified by the record breaking $43 billion bid by ChemChina for Syngenta in February.
The extraordinary volatility that characterised the first few weeks of 2016 will have had an impact on the number of mergers that have made it over the line so far this year. The UK vote in late June to leave the EU triggered further uncertainty that will affect the second half of the year across all markets – not least through the likelihood of a delay in any rate rise by the US Federal Reserve.
If deals become more scarce it amplifies a perennial problem for the investment banks: they are all chasing the same customers. As client wallets have shrunk and corporates have become much more careful about the fees they pay, the competition for the big mandates is more intense than ever.
All banks have rationalised their businesses to the core number of clients that they want to deal with – and for most of the big investment banks that list of core clients looks very similar. There is consequently unprecedented pressure to sell as many products as possible to those same core clients that every bank now focuses on.
“We need to do more with less and need to access wallet differently,” one banker explains. “Clients now share their wallet between far fewer banks. All banks are trying to do more with fewer clients and all clients are trying to do more with fewer banks. You need discipline around client selection. Corporates don’t want to spread the wallet anymore.”
The consequent need for banks to cross-sell as much as they can to their existing clients has led activities such as repo provision and transaction services to become key differentiators. The more transaction services and cash management products you sell, the stickier the client becomes. “If a client is not buying products across capital markets, transaction services and custody we are not really interested,” admits one banker. And if banks bidding for mandates are not top five in their market the large corporates aren’t really interested either.
So a smaller number of larger banks are now focusing on a smaller number of larger clients. The financing business associated with those bumper M&A mandates is therefore more important than ever and plays firmly into the hands of banks with balance sheet.
This excessive focus on a small core of very large corporate clients means that the leading banks are leaving the field wide open for regional banks and non-banks to snap up business from the many large, mid-market and smaller clients they leave behind. They may live to regret this wide gap in coverage. With fewer clients the implications of missing out on a mandate become ever more acute. And the neglected smaller client of today could grow into the multinational of tomorrow.